What does "rent-to-own" mean?

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Rent-to-own is a transaction between a landlord and a tenant in which a tenant initially rents a home but has the option to buy it in the future, reports Bankrate. During the two to five years of a typical rent-to-own contract, part of the rent a tenant pays goes toward the eventual purchase of the house. Tenants unable to obtain loans are sometimes able to negotiate rent-to-own terms with landlords whose properties have been on the market for some time.

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Each rent-to-own contract is negotiable between the renter and the seller, explains About.com. The renter typically pays an up-front, nonreturnable amount called an option premium that gives the renter the exclusive opportunity to buy the house for a stipulated period of time. Additionally, the renter pays a higher-than-average rent, with the excess credited toward the selling price of the home. Renters lock in a sale price for when their credit improves enough for them to buy, and they also have the opportunity to become familiar with the house and neighborhood before they commit to a purchase. Sellers find long-term tenants interested in maintaining the property well.

On the down side of rent-to-own contracts, renters who do not eventually buy lose their option premiums and the excess rents they have been paying, points out About.com. If home prices in the area fall, the purchase price is locked into the contract, and renters cannot negotiate lower prices. If home prices rise, renters benefit, but sellers lose out. Additionally, when renters decide not to buy, sellers must reinitiate the marketing process.